Economics Lesson: Perverse Incentives, Deadweight Losses, and Behavioral Distortions in Obaucus Bill
By Benjamin Pacini • Thursday, October 8, 2009 5:20 pm
Basic economics teaches that there are multiple problems with taxes, tariffs, subsidies and government interference in the market in general. They include:
- Dead Weight Losses (people expend effort avoiding the tax instead of supplying their product, or, stop providing their product all together.)
- Behavior Distortions (people who don’t want insurance have to get it)
- Perverse incentives (people spend more on lobbying than on R&D) and
- Expanded Government Power
We are grateful to Max Baucus and the Senate Finance Committee for giving us an excellent case study of these 2nd order effects in the form of the Obaucus bill, currently under debate in the Senate.
Some background before our lesson begins. The penalty for not getting your own insurance is an excise tax (every person who doesn’t buy insurance gets taxed). This tax will be levied against peoples’ tax refunds, as Opencongress.org has reported. In other words, if you always pay your taxes exactly, and not one cent extra, then you will never have to pay the penalty. If, however, you pay one cent extra, you will lose it.
Let the learning begin!
Dead Weight Losses: Instead of actually getting insurance, people will pay to have a tax preparer get their taxes spot on, so that they can get out of paying the excise tax on those who don’t buy insurance. (This implies two problems: many people won’t get insurance, and many people will waste time and money trying to get out of paying the tax. This time and effort would have otherwise been spent on productive activities, like working, curing cancer, petting fluffy bunnies, etc.)
Behavior Distortions: The purpose of this bill is to coerce people into getting health insurance. (It should be noted that the car insurance mandate that is in many states has not forced everyone to get car insurance—there are still many who don’t have it.) While that is a distortion in itself, it isn’t the only one.
For example, people will probably get the cheapest insurance possible, instead of looking for the plan that most benefits them. Worse yet, a debate will begin over the definition of insurance—is it just catastrophic insurance? What about wheelchairs? Hearing aids? Cadillac plans? Very quickly, lobbyists will descend upon Washington to be sure that their product—the advanced double-scanning electroplex opticopedic doohickey 2.0—is covered under the new insurance mandate. (Insurance companies love the idea of a mandate—just like computer producers would love it if everyone in America had to buy a computer.)
Perverse Incentives: As mentioned above, this bill would encourage lobbying instead of productive behavior—sending the signal to big businesses to shift more money from R&D to ‘government affairs.’ Additionally, however, remember the punishment for not getting health insurance: if you pay your taxes exactly, every year, you pay no excise tax for not getting health insurance. Thus, this mandate gives you the incentive to underpay your taxes.
In short, this mandate, enforced by a tax on those who overpay their taxes, provides a watered-down incentive to get insurance, a big incentive for lobbyists to cozy-up to congresspeople, another incentive for people to spend time and money avoiding the tax, and worst of all, grants the government power to begin coercing you into behaviors that it feels are good for you.
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